Ninth Circuit Says Accountants Not Liable for Failure to Detect
Client’s Role in Ponzi Scheme

By a MetNews
Staff Writer

An accounting
firm that audited some of the financial statements of companies involved in
what a judge found to be a “massive Ponzi scheme” is not liable to defrauded
investors, the Ninth U.S. Circuit Court of Appeals ruled yesterday.

The court said
Stonefield Josephson, Inc. cannot be held liable for professional negligence or
for aiding and abetting the conversion of investors’ funds because there is no
substantial evidence the investors’ relied on the audits.

Robert Mosier,
court-appointed receiver for the companies of Orange County-based Private
Equity Management Group, or PEMGroup, sued Stonefield, claiming the company
misrepresented PEMGroup’s financial condition and thereby induced new investors
to put their money in the companies. The receiver sought $51 million in
damages, just part of the total $950 million lost by investors in the scheme,
according to the Securities and Exchange Commission.

PEMGroup was
organized by Danny Pang, a native of Taiwan who obtained most of his funding
from Taiwanese investors. The SEC and others said PEMGroup claimed to invest in
life insurance settlements and time shares, but that the money was actually
used to finance Pang’s lifestyle and lavish expenses, including a Disney cruise
for all of his employees.

The SEC seized
the companies in April 2009, and Pang was charged criminally with evading
currency-reporting laws. He died in September of that year while under house
arrest awaiting trial.

He was 42 years
old. The coroner subsequently said he committed suicide by consuming large
dosages of opioids.

In his suit
against Stonefield, Mosier said the accountants should have warned investors,
in the 10 audit reports it prepared for a PEMGroup subsidiary between 2003 and
2007, that management had not accurately reported the value of the company’s
assets in accordance with Generally Accepted Accounting Principles.

The reports did,
however, express reservations about some of the company’s practices, including
selling assets to an affiliated entity that shared the same advisor, and failing
to present proof, apart from its internal evaluation, that those assets were
sold at fair market value.

U.S. District
Judge Philip Gutierrez granted the accountants’ motion for summary judgment on
causation grounds, and the Court of Appeals affirmed in an opinion by Senior
Judge Stephen S. Trott.

The receiver
failed to present proof of reasonable reliance, Trott said, noting that the
district judge excluded all of his proffered evidence of reliance as hearsay
and that he did not challenge that ruling on appeal.

“We find it
difficult on this record to swallow the idea that PEMGroup showed Stonefield’s
qualified audits to investors in Taiwan,” Trott wrote. “Mosier would have us
believe that numerous Taiwanese investors lost millions to this fraud, yet he
has not produced a single victim willing to step forward to help in a process
that could indirectly recoup his or her losses. Were the audits
translated into their language? Do they read English? In his deposition,
Mosier testified that he had a meeting with defrauded investors to discuss what
‘induced them to come’ to PEMGroup. Mosier said—and this was excluded
hearsay—that the investors said, ‘We all relied on the audit reports.’
Did Mosier ask the investors for any paperwork corroborating their
assertion? At least one of them might have had paperwork and files to
scaffold their alleged statements and Mosier’s assertions. Did he ask
them for it? It’s axiomatic that when stronger evidence of a fact is
available, weaker evidence becomes even more so. If Conan Doyle had
authored this scenario, he could have called it ‘The Case of the Missing
Link.’”

Randall A. Smith
of Brown Rudnick LLP in Irvine argued the case for the plaintiff and Stephen J.
Tully of Garrett & Tully, P.C. of Westlake Village for the defendant.